WASHINGTON (Reuters) — The U.S. Federal
Reserve will give banks two more years to divest collateralized loan
obligations (CLOs) that fall under the Volcker rule, a part of the
Dodd-Frank financial law that bans banks from making a range of
risky investments.

The Fed said banks will now have until July 21, 2017 to shed these
funds, which pool together risky loans.

CLOs are a way for banks to remove loans from their balance sheets
by selling the exposure to other investors, a form of
securitization. Those investors can be other banks.

But the Volcker rule, part of the 2010 Dodd-Frank financial reform
law, caps banks' ability to invest in risky funds such as hedge
funds and private equity funds to 3 percent, and some CLOs fall
under this rule.

The loans held in CLOs are high-yielding, and are generally used in
leveraged buy-outs, to finance the acquisition of a company by a
private equity firm.

Issuers of CLOs had been holding back this year, with year-to-date
new volume 40 percent lower than a year ago, because of the
regulatory uncertainty.

Even with the delay, the rule would lead to sharp losses for banks,
the Loans Syndications and Trading Association said.

"Considering the amount of CLO notes that would have to be sold ...
investors should be able to demand a punitive price," it said in an
emailed statement. "This would drive significant realized losses for
the banks."

In January, five regulatory agencies approved a tweak to the Volcker
rule that would allow banks to keep interests in certain funds
backed by trust-preferred securities.

Congressman Scott Garrett, who chairs a House panel on capital
markets, has asked U.S. financial regulators to go back to the
drawing board on writing regulations to enforce the Volcker rule,
also citing he expected losses for the banks.

The Volcker rule, part of the 2010 Dodd-Frank financial law aimed at
preventing another financial crisis, prohibits banks from making
speculative bets with their own money.

Bankers and some members of Congress objected to the rule, and have
pressured U.S. agencies charged with writing the regulations under
which the rule will be enforced.

The four other U.S. regulators co-deciding on the Volcker rule would
grant a similar delay, the Fed said.

They are the Office of the Comptroller of the Currency (OCC), the
Federal Deposit Insurance Corporation (FDIC), the Securities and
Exchange Commission (SEC), and the Commodity Futures Trading
Commission (CFTC)

(Reporting by Douwe Miedema; editing by Alden Bentley and David
Gregorio)